Silicon Valley Bank becomes a casualty of Federal Reserve’s unrelenting hawkishness

13 Mar 2023 , 12:47 PM

Silicon Valley Bank (SVB) has become a casualty of Federal Reserve’s unrelenting hawkishness. SVB held around $128 billion of assets in mortgage bonds and treasury bonds. Successive interest rate hikes by the US Federal Reserve resulted in the value of these bonds go down. When interest rates increase, market price of existing bonds go down so that yields on them increase to match the higher interest rates. Due to this fall in the value of bonds, SVB had to post mark-to-market losses on these bonds that it held. The value of its total assets went down as a result. It also had to sell some of these bonds at a loss to pay off the depositors that were taking their money out. SVB’s customers mainly include startups and new companies and venture capital firms. 

The adverse economic impact of two years of Covid lockdowns & restrictions started becoming clear by the end of 2021 and early 2022. To control higher inflation caused by supply chain disruptions of Covid restrictions, central banks started raising interest rates. Both these factors resulted in increased difficulty for venture capital firms to raise money from their Limited Partners (LPs). Venture capital firms raise money from investors. These investors are known as LPs. This money is managed and invested by general partner (GP).

With venture capitals finding it difficult to raise money, withdrawals started increasing at SVB. According to data cited by The Economist, deposits at SVB fell from $189 billion at the end of 2021 to $173 billion at the end of 2022. 

Deposits are the liabilities of SVB. The losses that it took on bonds because of interest rate increases by the central bank resulted in its assets becoming short of its liabilities by around $1.7 billion. For a bank if its assets fall short of its liabilities, it will find it difficult to pay back the liabilities when they come up for payment. Banks pay back their liabilities by the income that they generate from their assets or by selling their assets. The bank tried to raise $1.7 billion to meet this shortfall. It was then that US Federal Deposit Insurance Corporation announced a bank failure at SVB and took over.